One big order, thousands of small ones, seen behind oil tumble

By Jeanine Prezioso and David Sheppard| NEW YORK, Sept 18

NEW YORK, Sept 18 A single large sell order in
the benchmark European Brent oil market, followed by an abrupt
U-turn among high-frequency traders, may have caused one of the
most abrupt price routs ever, brokers and analysts said on
Tuesday.

As the dust settled on Monday's four-minute, nearly $4
plunge, other possible causes such as an erroneous "fat finger"
trade, a computer program run amok or a broad, rumor-driven
sell-off were set aside in favor of a combination of one big
trade - potentially as much as 12 million barrels worth some
$1.4 billion - and tens of thousands of computerized orders.

"There was most likely a large fundamental seller in the
market yesterday," said Eric Scott Hunsader, Chief Executive of
Nanex, a trading consultancy that regularly conducts detailed
forensic analysis of erratic market activity.

But assuming a single seller got the ball rolling lower, it
was algorithmic traders that almost certainly extended and
intensified the decline, causing a 20-fold spike in volume as
risk limits or automated price triggers fueled selling.

Prices fell moderately at first, with Brent crude
dropping by just 98 cents over the first three minutes. But the
sell-off intensified over 46 seconds after 13:53:56 p.m., at
which point market-makers may have been forced to liquidate.

"We can see from looking at the tick data that initially the
High Frequency market makers were willing to absorb their
position around $98 a barrel in U.S. crude," said Hunsader, who
examined detailed trading data in the NYMEX market.

Separately, several broker sources said the sell-off
originated in the Brent market.

"This created what the CFTC has described in the past as a
'hot potato' event, where the position was rapidly passed on in
a way that looks very similar to the equity market 'flash crash'
in May 2010."

Talk of more nefarious causes was deemed highly unlikely.
High-frequency firms rarely initiate big one-off trades. A
mistaken trade execution would likely have provoked an immediate
rebound as the seller scrambled to buy back positions.

"Based upon our initial review, it does not appear that a
fat finger is the likely cause of the oil price dive yesterday,"
CFTC commissioner Bart Chilton said in an interview. "We have
been poring over the data."

BUT WHY?

What remains unclear, and may not be known for weeks if
ever, was who placed the first order that might have set the
rout in motion - and why.

Was it a hedge fund in distress, or one that had simply
changed its view on prices? An oil trade that spilled over into
other commodities, which also fell, or a cross-asset
macro-trade? Why would anyone choose one of the most subdued
periods of the trading day to execute such a mammoth deal?

Finding the root cause is harder now than before.

Unlike five years ago, when the constant human chatter of
the New York oil trading pit would likely have pinpointed a
culprit in short order, oil markets are now traded almost wholly
electronically, further disguising the participants of a
notoriously secretive and opaque marketplace.

For many dealers, no single scenario made sense.

"If it was a single player, why would they be so eager to
take profit at that time? Not yesterday, not at 2 o'clock, all
of a sudden. That doesn't make sense," said Joseph Genovesi, a
veteran crude oil broker with United ICAP in New York.

The Commodity Futures Trading Commission (CFTC) is looking
into the drop and is collaborating with the UK's Financial
Services Authority (FSA), which has oversight of ICE's Brent
market, a source said. It is customary for the CFTC to review
irregular trading, but it rarely comments on those enquiries.

CME Group Inc said it was a "coordinated selloff"
not caused by any technical failures.

ICE declined to comment on whether it saw any unusually big
orders placed during the period, but said: "Following rumors
regarding the SPR, volume was widely distributed and oil prices
declined over a period of time. Circuit breakers were not
triggered and markets were orderly."

AN ORDERLY 30 SECONDS

Jeff Grossman, president of BRG Brokerage on the NYMEX
floor, said some traders believe a single counterparty might
have moved to sell 10,000 to 12,000 lots in a single clip - an
extraordinarily large order at a time of day when volume is low.

"It was very orderly, but 30 seconds meant a lot yesterday,"
said Grossman.

The larger question may be why. Sophisticated traders would
know that the period of time - around 1:50 p.m. EDT - was a
typically low ebb in market liquidity, raising the risk that
larger orders could roil prices.

It is in between two periods of relatively higher trade: The
Platts half-hour trading "window" for setting European oil
prices, which ends at 1530 GMT (11:30 a.m. EDT), and the
official close and settlement for NYMEX futures at 2:30 p.m.

Over the preceding six trading days, trading volume in
front-month Brent and WTI futures averaged less than 1,000 lots
per five-minute period. Until 1:51 p.m., Monday was no
different, despite suggestions that the Rosh Hashana holiday
might have reduced trading volume and heightened volatility.

But during the five-minute period to 1:55 p.m., volume
surged: A total 18,735 lots of Brent and 21,914 of WTI traded in
that period, in the absence of any obvious news or headlines.

REMEMBER MAY?

While extraordinary, the event was not without precedent,
nor even the most aberrant in recent history. It bears some
similar characteristics to the May 5, 2011 slump that drove
Brent oil futures down as much as $13 a barrel. Both appeared to
be unrelated to news and seemed orderly yet extraordinary. Both
defied efforts to make any external sense of things.

In hindsight, the two had another factor in common: Both
erupted at a time of intensifying debate over releasing
emergency oil stockpiles.

Rumors of a U.S. decision to tap into the strategic
petroleum reserve (SPR) was initially posited as a potential
cause on Monday. The White House denied any decision had been
made. In early May last year, President Barack Obama had just
given the nod to seek support from allies to tap into reserves -
a decision that would not be public for over a month.

Regardless of the cause, some fear that the growing role of
computer-driven traders - now estimated to account for half or
more of oil market liquidity - might make these events more
common.

"This raises a larger questions about whether these markets
continue to fulfill the fundamental purpose - hedge risk and
price discovery," said the CFTC's Chilton.

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